I understand that for bonds with embedded options since their CFs are uncertain one cannot use the bond’s YTM to calculate the present value. However why then use the change in the benchmark curve? And what is the benchmark curve anyhow? Pls help!
Usually it is the yield curve of Treasuries/Government bond securities.
The spot rates from the benchmark curve serves as a base, and we will add the OAS to the interest rate tree, such that the no-arbitrage value of the bond is equals to its market value (calibration). At least that is on the valuation side.
As for effective duration, it’s just a measure of sensitivity to a variable (which in this case is against the benchmark/spot curve).